The structure-specific endonuclease activity of the human XPF–ERCC1 complex is essential for a number of DNA processing mechanisms that help to maintain genomic integrity. XPF–ERCC1 cleaves DNA structures such as stem–loops, bubbles or flaps in one strand of a duplex where there is at least one downstream single strand. Here, we define the minimal substrate requirements for cleavage of stem–loop substrates allowing us to develop a real-time fluorescence-based assay to measure endonuclease activity. Using this assay, we show that changes in the sequence of the duplex upstream of the incision site results in up to 100-fold variation in cleavage rate of a stem-loop substrate by XPF-ERCC1. XPF–ERCC1 has a preference for cleaving the phosphodiester bond positioned on the 3′-side of a T or a U, which is flanked by an upstream T or U suggesting that a T/U pocket may exist within the catalytic domain. In addition to an endonuclease domain and tandem helix–hairpin–helix domains, XPF has a divergent and inactive DEAH helicase-like domain (HLD). We show that deletion of HLD eliminates endonuclease activity and demonstrate that purified recombinant XPF–HLD shows a preference for binding stem–loop structures over single strand or duplex alone, suggesting a role for the HLD in initial structure recognition. Together our data describe features of XPF–ERCC1 and an accepted model substrate that are important for recognition and efficient incision activity.